Summary about Mistake in Trading 'Using too Much Leverage'

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When an account goes into a drawdown, the longer it takes before a new equity high is achieved, the greater the likelihood of a trader "pulling the plug" prematurely. The most important consideration is to make a realistic assessment of whether or not you will be able to continue trading in the face of a drawdown, which this analysis suggests, is "normal" for this portfolio. If you are prepared to keep trading through a 20% drawdown, but this analysis suggests that the expected maximum drawdown is 30%, you have a critical piece of information. You need to either allocate more capital to your trading or make some changes to your portfolio. The implication here is that you will probably not enjoy the Expected Annual % Return because it is likely that at some point your maximum drawdown "pain threshold" will be exceeded and you will stop trading.

Determining the proper capital requirements for trading a given portfolio is a difficult and often overlooked task. Many traders put what they think they can afford to lose into a trading account, pick a few markets that they like and start trading, with little or no analysis regarding the kind of volatility and drawdowns they might expect to encounter along the way. Unfortunately, the impact of failing to carefully consider capital requirements for trading a given portfolio can be disastrous. Applying the steps in this chapter can help you to avoid the mistake of using too much leverage.